Different versions of the Compound Interest Formula.
The general formula is:
T = P(1 + I/n)Yn
where:
T = Total amount of money
P = Principle amount of money
I = Interest as a decimal.
n = How often interest is calculated in a year.
Y= Number of years.
This formula can be used to calculate the total amount of money a single investment will
be worth if values for P, I, n and Y are given.
What if we wanted to find P instead? There are several practice problems that ask you to
find P. The best way to tackle these problems would be to solve T = P(1 + I/n)Yn for P
and use that formula for those problems.
Here is how we get that formula.
I
T P1
n
Yn
We want P alone and what we have is P times another number
so divide.
Yn
T
I
1
n
So, P
Yn
I
P1
n
Yn
I
1
n
T
I
1
n
Yn
We can use this formula to find P if we are given T, I, n and Y.
We can also use this formula to find I. This is a little tougher and it involves a technique
that hasn’t been fully explored in this course.
I
T P1
n
Yn
We want to get I alone but it is inside the group that has the exponent Yn. We can move
the P by dividing.
Yn
I
P 1
Yn
T
T
I
n
We now have 1
P n
P
P
We need to do something about the exponent. Let’s use a simpler equation to
demonstrate the method to be used.
Find the exponent that makes the following equation a true statement. (34)x = 3
First, let’s review one of the rules of exponents that was introduced in Module 3.
Multiply the exponents: (34)5 = 345 = 320
Therefore, (34)x = 34x and 34x = 3 = 31
To find x we can solve the equation: 4x = 1
Thus x = ¼ and (34)1/4 = 3.
Yn
T
I
1 . To get the variable I
P n
out of the group we need the exponent to be 1. This can be done be the exponent 1/Yn to
both sides of the equation.
How do we use this? Well, we have the equation
1
Yn
1
1
Yn
I Yn
I
T
T Yn
1 which simplifies to 1 . We’re now two steps from
n
P
P
n
the formula we’re looking for.
1
I
T Yn
1 11
n
P
1
I
T Yn
1
n
P
1
T Yn
I
n 1 n
P
n
1
T Yn
Thus , I n 1
P
We can use this formula to find I if we are given T, P, n and Y.
The formula to find Y is developed in Unit 4 of this Module 8.
Here are all the formulas that are related to calculating Compound Interest.
T P1
I
n
Yn
is used when P, I, n and Y are given.
1
T Yn
I n 1 is used when T, P, Y and n are given.
P
P
T
I
1
n
Yn
is used when T, I, n and Y are given.
T
log
P
Y
is used when T, P, I and n are given.
I
n log 1
n
These formulas are used to solve the practice problems for Units 2 and 4.